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International Business has always played a vital role in the economic and social of all people through the ages. Muslim as a part of contemporary world, and cannot be exception from this rule. Their religion (Islam) not only permits them, but also encourages them to do business. The prophet Muhammad (pbub) (the Messenger of Islam) himself was a full-time business man for a considerable period of time. However, contemporary Muslim find themselves confronted with serious dilemmas, because they didn’t follow their constitution, which are Quran and Sunna .This Quran’s emphasis on justice in general and maintenance of straight balance in practical is evident from forceful and oft-repeated injunctions.
This study will try to collect some brightness efforts from implementing Islamic rules and standers in international business.
1.2 The purpose of the study:
The aim of this study is to recognize Islamic banking as the main contribution in international business and how this contribution adds significant solution to world banking problems
In this project the methodology depends on several references such as books, articles in journals, websites, and magazines.
2.0 The Fundamental of an Islamic Business System
The basic frame work for an Islamic business system is a set of rules and laws. Collectively referred to as shariah, governing economic, social, political, and culture aspects of Islamic societies. Shariah originates from the rules dictated by the Quran and its practices, and explanations from Sunnah by the prophet Muhammad. Further elaboration of the rules is provided by scholars in Islamic jurisprudence within the framework of the Quran and Sunnah. (Saeed, M . Ahmed, Zr . Mukhtar, S 2001)
This framework clarifies the prohibition of interest. Prohibition of riba, a term of literally meaning “an excess” and interpreted as “any unjustifiable increase of capital whether in loan or sales” is the central tenet of the system. More precisely, any positive, fixed predetermined rate tied to the maturity and the amount of principle is considered riba and is prohibited. The general consensus among Islam scholars is that riba cover not only usury but also the changing of “interest” as widely practiced.
This prohibited is based on argument as social justice, equity, and property right. Islam encourages the earning of profit but forbids the charging of interest because profits, determined ex post, symbolize successful entrepreneurship and creation of additional wealth where as interest, determined ex ante, is a cost that is accrued irrespective of the outcome of business operations and may not create wealth if there are business losses. Social justice demands that borrowers and the lender share rewards as well as losses in an equitable fashion and that the process of wealth accumulation and distribution in the economy be fair and representative of true productivity. Risk sharing. Because interest is prohibited, suppliers of funds become investors instead of creditors. The provider of financial capital and the entrepreneur share business risks in return for shares of the profits. Money as potential capital is treated as actual capital only when it joins hand with other resources to undertake a productive activity. Islam recognizes the time value of money, but only when it acts as capital, not when it is potential capital.
Prohibition of speculative behavior. An Islamic financial system discourages hoarding prohibits transactions featuring extreme uncertainties, gambling and risks.
Sanctity of contracts. Islam upholds contractual obligation and the disclosure of information as a sacred duty. This feature is intended to reduce the risk of asymmetric information and moral hazard. Shariah-approved activities. Only those business activities that do not violate the rules of shariah qualify for investment. (Saeed, M . Ahmed, Zr . Mukhtar, S 2001)
Some of the more popular instruments in Islamic business markets are trade with markup or cost-plus sale (murabaha). One of the most widely used instruments for short-term financing is passed on the traditional nation of purchase finance. The investor undertakes to supply specific goods or commodities, incorporating a mutually agreed contact for resale to the client and a mutually negotiated margin.
Profit-sharing agreement (mudaraba). This is identical to an investment fund in which managers handle a pool of funds. The agent-manager has relatively limited liability while having sufficient incentives to perform. The capital is invested in broadly defined activities, and the terms of profit and risk sharing are customized for each investment. The maturity structure ranges from short to medium term and is more suitable for trade activities.
2.1 The Principle of Islamic banking:
The principle of Islamic banking is based essentially on the premise that interest, which is strictly forbidden in Islam, is neither a necessary nor a desirable basis for the conduct of banking operation, and that Islamic teachings provide a better foundation for organizing the working of banks. Muslim economists have pointed out that it is a historical accident that interest has become the kingpin of modern banking. The practice of interest has been condemned by foremost thinkers in human history and by all biblical religions. Aristotle dwelt on the “barren” nature of money and vehemently condemned the institution of interest which describe as “birth money from money”. ( Abeng, T 1997)
Under Judaism, Israelites were forbidden to demand any increase on the principle amount of the sum lent in transactions among themselves, though interest could be charged in dealing between Israelites and gentiles. The reason for his distinction, according to many scholars of Judaism, was that there was no law at that time among the gentiles which prohibited the practice of interest and it was no regarded as unfair that Jews be allowed to recover interest from people who charged interest from them. Among the followers of Islam, the institution of interest has always been regarded as highly ignoble because the Holy of Qur’an strictly forbidden interest based transaction in all form. In the early history of Islam the injunction relating to prohibition of interest was strictly observed, but with the decline of the hold of religion and spread of western influence, financial practices based on interest began to permeate Muslim societies as well. In the period of colonial domination of Muslim countries by western power, the interest based system became solidly entrenched. Muslim scholars argue which has led to the resent -day dominance of interest in financial transactions all over the globe.( Abeng, T 1997)
Muslim scholars recognize the important role banks play in the economy of the country in the modern time. Banking institutions act as financial intermediaries between savers and investors. They can be of significant help in assisting the process of capital formation and development.
2.2 Non Muslim countries interesting with Islamic banking serve
The achievements of Islamic banking through world crises encourage many non Islamic countries demand to apply this vision by institutionalized use of Islamic modes of deposit mobilization and financing, if not full flagged Islamic banking; in quit a few non Islamic countries. Thus Islamic financial institutes exist in so far a part as Australia, Denmark, India, Liberia, Liechtenstein, Luxemburg, Philippine, South Africa, Thailand, United Kingdom and United State of America. Apart of these there are a number of nun -Islamic financial institution in non-Muslim countries which offer Islamic finances services for their Muslim clients. There is a good deal of controversy, however, about the financial services being offered by such institutions being in fully conformity with Shariah requirements.
3.0 The impact of Islamic Banking on economic system
The culture of Islamic banking has magnificent affect in several dimensions of economic system, which are saving, investment, rate and percentage of growth. These elements have major rule for economic system stability.
3.0.0 Effects on saving and investment
Islamic economy has pointed out that standard economic does not yield a definitive conclusion regarding the effect of increased uncertainty of rate of return on the quantum of saving. The actual out come would depend on a number of factors such as the form of utility function and its risk aversion, the degree to which future is discounted, whether or not increased risk is compensated by higher return, and the income and substitution effects of increased uncertainty. It has further been argued that the move to an Islamic interest free system, under cretin conditions, could lead to increase rates to return on saving. Consequently, the increased level of uncertainty that could result from adoption (Profit/loss sharing) (PLS) based system could be compensated unchanged or perhaps even leading to an increase in saving.
Muslim economists expect PLS based banking to exercise favorable effect on the level of investment. Both the demand for investment PLS based banking. The demand for investment funds is likely to increase as a fixed coast of capital is no longer required to be met as a part of the firm profit calculations. The marginal product of capital can be taken up to the point where maximum profits are obtained without the constraint of meeting a fixed coast of capital. The supply of investment funds is likely to increase as PLS based banking is enable to undertake the financing of a large number of risky projects on account of an enhanced risky absorbing capacity.
3.0.1 The impact on Rate and Pattern of growth
The expected favorable effect of PLS based banking on the level of investment world impart a pronounced growth orientation to the economy, the increased availability of risk capital under the Islamic system would promote technological innovation and experimentation which would be another favorable factor for growth. Islamic banks are also expected to influence the pattern of growth through appropriate selectivity in their financial operations to ensure that the process of growth is broad based and an optimal use for bank resources.
3.0.2 The impact on Allocative efficiency
The financial system based on an Islamic frame work of profit sharing would be more efficient in allocating resources as compared to the conventional interest based system. This position is defended on the basic the general proposition that nay financial development that causes investment alternative to be compared to one another, strictly based on their productivity and rate of return, is bound to produce allocative environment, and such a proposition is the cornerstone of the Islamic financial system.
Muslim economists do not deny that investment efficiency requires the use of discounting to take proper care of the time dimension of costs and benefits. They emphasize that non-existence of interest does not mean that discounting as a technique of computing the present value of future cash flows cannot be used in an interest free economy. It has father been pointed out that interest rate is not proper discount factor under conditions of uncertainty, the rate of return on equity is the proper discount rate. Science the real world is a world of uncertainty and since no real investment in any economy can be undertaken without facing risk, cash flow of such investment should be discount not by a riskless interest rate but by the true opportunity cost of venture capital.
3.0.3 Consequences for the Stability of the Banking System
The literature of Islamic banking that switch over from interest based on PLS based banking would import greater stability to the banking system .there is no assurance on the assets side that all the loan and advances will be covered, shocks on the asset that all the loan and advances will be covered. Shocks on the assets side, therefore, load to a divergence between assets and liabilities, and the banking system can suffer a loss of confidence in the process, leading crises. In the PLS based system, the mineral value of investment deposited is not guaranteed and shocks to the assets position are promptly absorbed in the value of investment deposits. This minimizes the risk of bank failure and enhances the stability of the banking system.
3.0.4 Effects on the Stability of the Economic System
The replacement of interest in the Islamic banking system is PLS, that eliminate the interest couple with other institutional feature of the Islamic economy , will tend to enhance stability , the interest in the financial bank depends on debt, which is the main reasons for instability in capital economy . It’s easy to see, for example how the interest based system intensifies business reason. As soon as banks find that business concerns are beginning to incur losses, they reduce assistance and call back loans, as a result of which some firms have to close down. This increases unemployment resulting in further reduction in demand, and the infection spreads. Islamic bank on the other hand, are prepared to share in losses in which reduces the severity of business recession and enables the productivity enterprise to tide over difficult period without shutdown. Islamic banking has to be regarded as a promoter of stability rather than a conduit of instability.
3.1 The practice of Islamic banking
The Islamic banking movement began on a modest scale in the early sixties. The earliest experiment in Islamic banking took place in the most cases on individual initiative with governments playing a more or less passive role. The later growth of the Islamic banking movement has been significantly helped by the encouragement provide by the government of a number of Muslim countries. The establishment of Islamic banks in banking legislation. It should be mentioned that changes in banking legislation effected in certain countries to facilitate the working of Islamic banks are not intended to confer any special advantages on these banks vis-à-vis the conventional banks. The measures are in fact designed to remove some of the handicaps from which Islamic banks suffer in conducting their operations in an economy where interest based transaction dominate the scene. (Saidi,T.2008)
Two different approaches are discernible in regard to the adoption of Islamic banking practices. In a number of countries Islamic banks have been started on private initiative. The governments of these countries have not committed themselves to the abolition of interest, and Islamic banks exist side by side with interest based banks. Pakistan and Iran are following a different approach aimed at economy wide elimination of interest. In Sudan, where Islamic banks co-existed with interest based banks for long time, the government has now opted for economy wide Islamization of banking. This section of the paper reviews the trends in the practice of Islamic banking in both the setting. It also takes note of activities of the Islamic Development bank, which is an international development financing institution working in shariah principles, the banking services by conventional banks in certain Muslim countries.
3.2 Individual entities for Islamic bank practices
There are now fifty Islamic banking institution operating in different countries encompassing most of the Muslim world. Two major international holding companies, namely, the Dar al-Mal al-Islami Trust and AL-Baraka Group control a number of Islamic banks Most other have been established by associations of individual sponsors. In some banks there is also a certain amount of government participation in their capital
Islamic banks conduct their banking operation under shariah principles. Almost all of them have Shariah Supervisory boards as part of their organizational structure. The function of Shariah Supervisory board is to ensure the compatibility of all the operations of Islamic banks with requirements of Shariah . (Saidi,T.2008)
Islamic banks accept both demand deposits and saving and time deposits. Demand deposits are treated as Qard al Hasnah .The bank is given permission to use the deposit amount at its direction but with guarantee of returning the full principle amount on demand. Saving deposits are differentiated from demand deposits as they are subject to certain restriction with respect to the amount that can be withdrawn from such accounts at any one time and the periodicity of such withdrawals. Some Islamic banks accept saving deposit deposits on PLS basis while others do not pay any return on these deposits and guarantee the principle amount. Time deposits are accepted by Islamic banks PLS sharing biases and generally known as investment account. The investment deposits of Islamic banks can have different maturity periods. The return on investment deposit is specified as percentage of total profits in most case, but in most cases the percentage return varies with the length of the period for which the deposits are made. Apart from limited period deposits, some Islamic banks also accept unlimited period investment deposited. In this case, the period of deposit is not specified and the deposits are automatically renewed unless a notice of termination of deposits is given of a mutually agreed of a mutually agreed time interval. Some Islamic banks also have specific investment accounts in which deposits are made for investment in particular project. The return to depositors in these accounts depends on the outcome of these particular projects and the ratio of the profit sharing agreed between the bank and the depositors.
Islamic banks operating in different countries are using a combination of the different financing techniques permissible in shariah . However , most of them lean heavily on Murabahah in their operations. This is for two main reasons. Their orientation mainly is towered short term financing of trade transaction for which Murabahah appear to be more convenient devices compared to the system of PLS. Secondly, they are in competition with interest based banks and are therefore anxious to earn at least as much on their environment as will enable them to given return roughly comparable to prevailing interest rate to their investment account holders. This is easier to achieve by engaging in Murabahah transaction as the mark-up can be fixed in a manner which less assure the required return. On the other hand, considerable uncertainty attaches to earnings under a system of PLS sharing as the outcome depends on the operating of various business units which are subject to the usual business hazards.
Excepting the three countries where Islamization of the banking system has taken place on an economy wide basis, Islamic banks in other countries are at a considerable disadvantage in facing the competition with conventional banks as they cannot avail of the facilities of the money market which operates on the basic interest. This forces them to work with much higher liquidity ratios which have implications for their profitability. Islamic banks also face a number of problems in investing their funds internationally as they cannot take advantage of the facilities of the Eurocurrency market and the Eurobond market which offer ready investment outlets for conventional banks.
Islamic banks have generally a good track record of profitability. Like conventional banks, Islamic banks also have had problems in the recovery of their due during periods of business recession or suffered loses in some investment which did no pay off but these have not grown to any crises. The Dar Al-Mal Al-Islami, which is a holding company for a large number of Islamic banks, did suffer operating losses in 1983 and 1984, and Kuwait finance House had a bad year in 1984 when neither the shareholders nor the depositors received a return on their capital. However, both these institution recovered from the set back in 1985 and showed good profits. There are course substantial differences in the performance and the profitability of individual institution within the Islamic banking community but this is not surprising because operating conditions and business environment differ widely from country to country.
4.0 Example of Islamic banking in Islamic countries
We will spotlight on some Islamic countries like Iran, Pakistan and Sudan. To know their experiences with Islamic Banking.
4.0.0 Iran and Islamic banking
A new law was enacted in Iran in August 1983 to replace interest based banking by interest free banking. The new required the banks to convert their deposits to an interest free basis within one year, and their operations within three years, from the date of the passage of the law, and specified the types of transactions that must constitute the basis fro asset and liability acquisition by banks. The law also specified the responsibilities of the central bank under the new system and the mechanics of its control over the banking system. (Roy, D 2010)
The law allowed the banks to accept to types of deposits, Quard al Hasanah deposits and term investment deposits. The Quard al Hasanah deposits comprise of current as well as saving account which differ in their operational rules. The holders of current and saving accounts are guaranteed the safety of their principle amount and are not entailed to any contractual return. However , banks are permitted to provide incentive to depositors through
Grant of prizes in cash or kind
Reduction in or exemption from service charges or agent’s fees payable to banks.
According priority in the use of banking facilities.
Holders of term investment deposits are entitled to receive return, depending on the profitability of the project in which these funds are invested. The law allows the banks to undertake and repayment of the principle amount of terms of investment.
The law provides various modes of operation upon which the financing transactions of kinds must be based. Banks are obliged to earmark a portion of their resources for grant of Quard al Hasanah to help achieve the socioeconomic objectives set out in the constitution of the country. Beside Quard al Hasanah , banks are authorized to extend financial assistance for predictive venture on PLS basis in accordance with the principle of Mudarabah and Musharakah . Banks are allowed to provide part of the capital of a new joint stock company and also to purchase share of the existing joint stock companies. Banks are authorized to provide working capital financing to productive unites by purchasing new materials, spare parts and other items on their request for sale to them on the basis of deferred payment in installment. Purchasing of machinery and equipment for sale to their clients on deferred payment basis is also allowed. Another mode is called Salaf which is used for meeting working capital requirements through advance purchase of output. Banks can engage in lease-purchase transaction.
In the new set up, the central bank of the country has been given wide authority to control and supervise the operations of the country’s banks. While it continues to have many of the erstwhile credit control weapons which do not involve Riba, it has been endowed with new instrument of control to regulate the interest free operations of the banks. These include power to determine
Minimum and maximum expected rates of return from various facilities to the banks.
Minimum and maximum profit shares for banks in their Mudarabah and Musharakah activities.
Maximum rates of commission the banks can charge for investment accounts for which they serve as trustees.
Studies on Islamic banking experience of Iran have pointed out that no attempt has been made so far to Islamize the international banking and financial operations. Government continues to borrow from banks on the based of fixed rate of return. It has also been pointed out that some practices in Iran are not variance with the practice of Islamic banking in other countries.
4.0.1 Sudan and Islamic banking
The aim of this economy wide Islamize of the banking system in Sudan has not been smooth and steady. The first attempt to Islamize the entire banking system was made 1984 when a presidential decree was issued directing all commercial banks to stop interest based dealing with immediate effect and to negotiate the conversion of their then existing interest bearing deposits and advances into Islamically acceptable form. Foreign transactions were allowed to be continued on the basis of interest for the time being. It is reported that this sudden change forced the banks to adopt the nearest Islamic alternative available that is Murabahah which soon constituted 90 percent of their financial operations. It’s also reported Islamic system only formally in their ledger books and in the reports submitted to the central bank of the country. Policy makers in the central bank were also discontented with the procedure of transforming the banking system. They considered it as a mere political decision imposed by the government without being preceded is adequate detailed study. This experiment which economy wide Islamization of banking system came to end in 198 with the charge in government. The government which is presently in power had decided on the economy wide Islamization of the banking system once again, and newspaper reported indicate that the effort is much more earnest and much better organized this time. (Roy, D 2010)
4.0.2 Pakistan and Islamic banking
The process of economy wide Islamization of the banking system in Pakistan was initiated soon after declaration by the president of Pakistan in 1979 that government planning to remove interest from the economy within period of three years and that a decision had been taken to make a beginning in this direction with the elimination of the interest from the operation from House Building Finance corporation, National Investment Trust and mutual funds of he investment corporation of Pakistan. Within a few months of this announcement, these specialized finical institutions took the necessary steps to reorientation their activities on a non interest basis was a much more complex task and took a longer time span. To begin with, step were taken in 1981 to set up separate counters for accepting deposits on PLS basis in all the domestic braches of the five nationalized commercial banks. The parallel system, in which savers had the option to keep their money in the bank either in the interesting bearing deposits or PLS deposits, continued to operate till the end of 1985. As the first 1985, no banking company is allowed to accept any interest bearing deposits except foreign currency deposits which continue to earn interest. As loss of that banking company accepted deposits in current account on which no interest or profit is given and whose capital sum is guaranteed.
The central bank of the country has issued instructions specifying twelve modes of financing in which funds mobilized by the banks can be employed. These are broadly classified into three groups:
Trade related mode of financing
Investment mode of financing.
Loan financing takes the form either Qard Al-Hasan given on compassionate grounds free of any interest or service charge or of loan with a service charge not exceeding the proportionate cost of the operation. (Roy, D 2010)
Trade related modes of financing include:
Purchase of goods by banks and their sale to clients.
Purchase of trade bills.
Purchase of movable or immovable property.
Financing for development of property on the basis of a development charge.
Investment modes of financing include:
Equity participation and purchase of shares
Purchase of participation term certification.
The central bank of the county ahs been authorized to fix the minimum annual rate of profit which banks should keep in view while considering proposals for provision of financing, and maximum rate of profit they may earn, theses rate may be changed from time to time. It has also been laid down that should lose occur, they must be shared by all the financiers in proportion to the respective finances provided by them.
To safeguard the banks against delays and defaults in repayment by parties obtaining finance from them, a new law called the Banking Tribunals ordinance was promulgated in 1984. The tribunals set up under the radiance are required to dispose of all cases within the ninety days of filing the complaint. Appeals can be filled in the high court within thirty days but the decrial amount has to be deposited with high court appeal.
4.0.3 Islamic Development Bank
The Islamic Development Bank, established in 1975, is an international financial institution whose purpose is to foster the economic development and social progress of member countries and Muslim communities individually as well as jointly in accordance with principles of Shariah. It has 47 members and a subscribe capital of 2028.74 million Islamic dinar. The functions of the bank are to participate in the equity capital and grant loans for productive project in member countries and to provide financial assistance in other form for economic and social development. The bank is also required to establish and operate special funds for specific purpose including fund for Muslim communities in non-member countries.
The bank authorized to accept deposit and to raise fund in any manner. It is also charged with the responsibility of assisting in the promotion of foreign trade, especially in capital goods, among member countries, providing technical assistance to member countries, extending training facilities for personal engaged in development activities and undertaking research for enabling the economic, financial and banking activities in Muslim counties to conform to the Shariah . (Roy, D 2010)
The cumulative financing approved by the bank since its inception till the end of 1991-1992 amounted to 9389.13 million Islamic dinar. Foreign trade financing, based on Murabahah, has accounted for the bulk of the total resources providing by the bank to its members. It accounted for 72.5 present of total financing. Loans provided on the basis of a service charge accounted for 8.2 percent while leasing and installment sales accounted for 5.3 percent and 6.3 percent of total financing respectively. Equity participation accounted for 2.2 percent of total financing while the assistance provide through profit sharing accounted for2.0 percent of total financing.
Equity participation and profit sharing are regarded as the chief distinguishing features of Islamic financing and banking. It is disappointed to note that, they have so far played very financing operations of Islamic development bank. The over-anxiety of the bank in it initial years to expand the network of equity financing to cover as many of it’s member countries as possible, lack of sufficient professional expertise in the bank to undertake an adequate appraisal of the project and to pursue the task of vigorous follow up of it equity investment, delay in the implementation of the projects financed by the bank, marketing difficulties and currency devaluation have been cited as the main factors responsible for this situation
4.1 Analysis the role of commercial banks in increase debts
Commercial banks is the banks that depends on interest to increase there profits. To achieve his object, they do maximum to attract clients to register in these facilitates, that have different shapes.
By the affect of advertising, many people try to achieve their goals by magic solution which is loan. Also there is another promotion from these banks to attract customers which a
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